When China prepares its « Great Escape » from the dollar-trap for the end of summer 2009

- Excerpt GEAB N°34 (April 16, 2009) -

When China prepares its « Great Escape » from the dollar-trap for the end of summer 2009
LEAP/E2020 believes that the next stage of the crisis will result from a Chinese dream. Indeed, what on earth can China be dreaming of, caught – if we listen to Washington – in the “dollar trap” of its USD 1,400-billion worth of USD-denominated assets? If we believe US leaders and their scores of media experts, China is only dreaming of remaining a prisoner, and even intensifying the severity of its prison conditions by always buying more US Treasuries and Dollars.

In fact, everyone knows what prisoners dream of. They dream of escaping of course, of getting away from prison. Therefore, LEAP/E2020 has no doubt that Beijing is constantly striving to find the means of disposing, as quickly as possible, of the mountain of « toxic » assets which US T-Bonds and Dollars have become, keeping the wealth of 1,300 billion Chinese citizens prisoner.

In any good escape story, the prisoners do not spend their time making announcements that they are preparing to get away. In fact, on the contrary, they tend to avoid arousing their guards’ vigilance. According to our team, the Chinese declaration of March 24th asking for the replacement of the US dollar by an international reserve currency was both a “testing of the waters” and a warning: a direct poll to make an assessment of the forces at work (within the G20 in particular) when it comes to moving to a post-Dollar era (1), and a constructive and destructive (depending of the reaction to the previous idea) warning sent to the various global players. A responsible player (and Beijing is one) must send discreet signals to the other players likely to follow or help “planning the job”. The preparation (2) and implementation of a « Great Escape » (3) requires the collaboration of several partners and no one who would have been willing to co-operate must end up in trouble because he was not informed (4).

Two estimates of Chinese Foreign Asset Growth (USD billion) - Sources: Central Bank of China / Brad Setser, 01/2009
Two estimates of Chinese Foreign Asset Growth (USD billion) - Sources: Central Bank of China / Brad Setser, 01/2009
In any event, thanks to the Central Bank of China’s “testing of the waters”, Chinese authorities have the following four beliefs confirmed:

1. A large part of the other members of the G20 are clearly in favour of a quick shift (5) to a post-Dollar era, in particular Russia, India, South Africa, Argentina, Brazil… therefore Beijing will not be alone when the time for a “Great leap forward ” (6) comes. On the contrary, China will be accompanied by a significant part of Latin America, Africa and Asia. The recent Yuan swap deals agreed with some of these countries is already paving the way in this direction (7).

2. The United States and the United Kingdom are refusing to consider any move in the direction of a post-Dollar era. Timothy Geithner’s blunder, when he considered discussing the Chinese proposal, was quickly corrected by US political leaders, but it revealed an interesting situation for Beijing. Geithner is Wall Street’s man in Obama’s team, and his blunder suggests that the financial Anglo-Saxon community would in fact be quite open to discussing any move likely to maintain their financial privileges, even if it means the end of the “Dollar era”. The « Dollar wall » is not so solid when it leans on « Wall Street ». Financial players have little attachment to a particular territory (this characteristic dates back to long before our current globalised system). In contrast, Washington still does not want to hear anything about the replacement of the US Dollar as global reserve currency, preferring to listen to and believe in soothing experts’ talk instead (8). We know what the result was in the case of subprime loans, the financial bubble, Wall Street’s banks, AIG, TARP, the recession, and so on.

3. The Europeans (except UK) are their usual selves, unable to make any really firm decision with regard to their former US protector (9). They are successful in resisting Washington’s orders, but they are not able to impose an agenda that would displease the United States. Nevertheless, thanks to their multilateral nature and numerous relays, it is obvious that, once the end of the « Dollar-era » has become irreversible, they would bring all their know-how and lobbying capacity to bear the creation of a new international currency, independent of any particular country. That is the reason why China launched the idea that the SDR (10) could be an alternative to the Dollar, proving that it was open to other suggestions than the Yuan (key condition for European support in the future).

4. Beijing is resorting to increasingly clear and bold announcements, always gradual, sometimes even followed by vague denials, coming from less important sources but soon widely circulated by the international financial media. It is thus increasing its freedom of speech (and of action, as, when it comes to monetary issues, what is said can be a lethal weapon or a soothing remedy) without significantly affecting the value of US Treasuries or the Dollar.

This last aspect is indeed the ultimate requirement of the Chinese government: to avoid by any means a collapse in the value of US Treasuries and the Dollar before it has escaped the « Dollar trap ». LEAP/E2020 believes that, in the coming months, China will reveal the exact meaning of this requirement. Is it a goal or a necessity? If it is a goal, then Washington, London and the international financial media are right: Beijing will follow in Washington’s footsteps, merely trying to enhance its influence on US decisions. On the contrary, if it is a necessity, then our team is right and Chinese leaders will strive to sell off their US-Treasuries and Dollars at the best « possible » price, choosing the best « possible » moment, avoiding creating turmoil likely to lower the value of these assets for as long as « possible » (of course, China has been thinking about all the « possibilities » before launching its « escape » plan). But, in contrast to the first option, once all “possibilities” have expired, Chinese leaders will all of a sudden contribute to accelerate the end of the Dollar-era; or, more likely, they will calmly announce that for a number of reasons beyond their control (11), they can no longer continue to play the role of US imbalances’ stabilizers.

Chinese US asset purchases vs. Chinese estimated reserve per category of US assets (green: Treasuries and deposits / Blue: Government Sponsored Enterprises (Fannie Mae, Freddy Mac, etc) / Yellow: Corporate bonds/equities / Red: Annualized estimated reserv
Chinese US asset purchases vs. Chinese estimated reserve per category of US assets (green: Treasuries and deposits / Blue: Government Sponsored Enterprises (Fannie Mae, Freddy Mac, etc) / Yellow: Corporate bonds/equities / Red: Annualized estimated reserv
Our anticipation, in this regard, is based on a number of developing trends which, in the last few months, have been confirming our analyses. Since the end of 2008, the Chinese government has undertaken to dispose of 50 to 100 billion USD worth of USD-denominated assets every month. Taking advantage of record-low prices in a large number of assets useful to the Chinese economy (minerals, farmland, energy, EU or Asian corporate shares – not US ones, this is not a minor detail), Beijing « went shopping » in line with its first requirement, making the best of its USD-denominated assets, i.e. exchanging them for non US assets, thus allowing it to go forward on the way to the “Great Escape”.

We would like to emphasise on just how fast this process is taking place. Despite the lack of transparency in the methods used (a precondition to prevent a collapse of US Dollar and Treasuries before the moment chosen by Beijing), a remarkable study has been conducted by Brad W. Setser and Arpana Pandey, published in January 2009 by the Council on Foreign Relations, which was an evaluation of Chinese foreign exchange reserves estimated to total around USD 2,300 billion at the end of 2008 (i.e. more than 50 percent of China’s GDP (12)), of which there were 1,700 billion worth of USD-denominated assets (900 billion in Treasuries, around 550 billion in GSE bonds (Fannie Mae, Freddie Mac…), close to 200 billion in corporate assets and 40 billion in short-term deposits). The author of the study comes to the logical conclusion that Beijing has no further interest in adding to this huge amount of assets, increasingly at risk because of the financial and economic decisions made by the US in addressing the crisis (13), now at risk of loss, and for which, in future, funds will no longer be available due to collapsing trade surpluses and the lack of inward flows of foreign investment.

Top: Chinese foreign exchange reserves and share of US assets / Bottom: Idem as a % - Source : BCA Research, 12/2008
Top: Chinese foreign exchange reserves and share of US assets / Bottom: Idem as a % - Source : BCA Research, 12/2008
Very logically, Beijing is now disposing of these huge surplus exchange reserves which keep Chinese leaders prisoners of US decisions with no further advantage for their country, as remarkably described by Rachel Zembia in an article published by RGE Monitor on 02/21/2009: loan credits to ASEAN countries (14), swap agreements, green light for 400 Chinese enterprises to trade in Yuan with Asian countries (15), loan credits to African states and Russia, long-term special oil rates negotiated with Persian Gulf states, loan credits to oil companies in Brazil and Abu Dhabi, purchase of European and Japanese company shares (no US shares, strangely…), etc. The author emphasizes the fact that these agreements would include guarantees for Chinese companies to have access to these resources. Contrary to appearances, what is really at stake in these deals is Beijing’s discreet disposal of its US Treasuries and Dollars in exchange for assets that the country needs, moreover available at record-low prices at a time when US Treasuries and Dollars still have some value.

With regard to US Treasuries, China has largely stopped buying them (purchases decreased by USD 146 billion in the first quarter of 2009 compared to the same period last year, representing an increase of only USD 7.7 billion! (16)) and only then purchasing short term (three month) Treasuries (17)!

Between the fact that it has nearly put a complete end to its purchase of US Treasuries and that it is accelerating the pace of its« global shopping » for more than USD 50 billion per month (swap agreements included), it appears that, between the end of 2008 and the end of summer 2009, China will have disposed of nearly 600 billion worth of USD-denominated assets, and it will have failed to purchase between USD 500 and USD 1,000 billion worth of US Treasuries that the Obama administration has begun to issue to finance its extravagant borrowings. LEAP/E2020 estimates that these two amounts added together give a clear idea of Beijing’s impact on the « Dollar-era » at the end of summer 2009, at the end of the US fiscal year. China’s disposals and failed purchases of US Treasuries alone will then represent a shortfall of between USD 1,100 billion and USD 1,600 billion in the United States’ financial needs. Ben Bernanke will be compelled to print Dollars in a (vain) effort to prevent his country from defaulting on its debt.

US monetary base - Source : Réserve fédérale US, 03/2009
US monetary base - Source : Réserve fédérale US, 03/2009
In the knowledge that each time Bernanke declares that the Fed will purchase its own US Treasuries, they lose 10 percent in one day, i.e. USD 140 billion compared to other international currencies, Chinese leaders will certainly find it acceptable to sacrifice USD 400 or 500 billion.

LEAP/E2020 believes that, at this stage, they will consider that they made the best « possible » use of their USD-denominated assets. Then, they would better be among those who push the « button » - or who do not try to prevent it. The second phase of China’s “Great Escape” out of the Dollar will then begin, depending on the behavior of the other key players. Either the Yuan takes its place as international reserve currency along with the Euro, Yen, Ruble, Real, or a process creating a new international reserve currency based on a basket of these currencies will begin. The Dollar will then be out of the race and the G20 reduced to a G18 (without the United States and the United Kingdom, but with Japan no longer able to escape the Chinese sphere of influence). Otherwise, the process of global geopolitical dislocation, described in GEAB N°32, will be underway, based on economic blocks, each of them trading in their own specific reserve currency.


(1) The corridors at the London G20 Summit were full of discussions about a post-Dollar era. The feedback we got from our own initiative (the Open Letter to the G20 leaders) already proves it. So the declaration of the Central Bank of China on the same day was certainly at the centre of all the serious conversations (not those covered by the media) during and after the London Summit.

(2) Beijing has recently launched a think-tank dedicated to the global economic crisis intended to help Chinese leaders with their decisions. Regardless of the increasing traffic observed since the end of 2008 on LEAP/E2020’s websites coming from China (and Japan too, including spontaneous translations of our public announcements on a variety of websites and blogs), this initiative clearly suggests that China now wishes to distance itself from US and UK analyses which represented, until then, 90 percent of Chinese experts’ sources. Source: ChinaDaily, 03/21/2009

(3) The movie of the same name, based on a true story, shows nothing else. In real life, the lack of meticulous preparation would doom the escape to partial failure.

(4) The main players are perfectly aware that capital is now flowing out of the US at the precise moment when the country’s huge public borrowing requirements substantially increase the need for foreign capital. In January 2009, the net amount of capital that left the US was USD 150-billion. Source: US Department of Treasury, 03/16/2009

(5) In this case, our researchers are talking months, not years (like the experts, who « concede » that there is a problem of status with the Dollar, would like to believe), because the size of the out-of-control US deficits represent a major threat in the short-term for the entire monetary system.

(6) China’s great political leap, which took place in the 1950s, entailed many disastrous collateral effects (millions of people died of the resulting hunger), but no one can tell whether or not the political leadership of the Chinese communist party is ready to take this kind of risk in the event its own survival and/or the country’s internal stability are at stake. European and American analysts pretend to know what Chinese leaders have in mind, because they have a tendency to think of them in their own image. According to our team, the post-Dollar era (if executed in an organized manner, by means of a new international reserve currency based on a basket of currencies, or chaotically by means of a sudden and non-negotiated end to the Dollar era) marks first of all a post-European era (or post-Western, if we estimate that there is an American specificity as far as core values are concerned), and that such an era has surprises in store for Europe- and West-centered people. Those who doubt it should read these remarks from a Chinese central banker on China’s « superior system advantage ». Source: MarketWatch, 04/26/2009

(7) After South Korea, Malaysia and Indonesia, it was the turn of Argentina to sign a swap agreement with China for a USD 14.5-billion equivalent in their currency, thus allowing each country’s businesses to bypass the US Dollar in trade and strengthening the Yuan’s position as international exchange currency outside Asia. Source: AustralianNews, 04/01/2009

(8) This Los Angeles Times article, dated 04/03/2009, is one of the broadest-minded on this subject! But, it is a fact that China is far closer to Sunset Boulevard than to the Beltway.

(9) We say « former protector » because, as the last NATO summit again proved, Europeans and Americans no longer agree at all on the nature of current threats. The war in Afghanistan is becoming a US war only and the Europeans are mostly preoccupied by the reorganization of their strategic relationship with Moscow. In short, the Alliance (with France a member again, as our team announced when Nicolas Sarkozy was elected) is now nothing more than a senior club in need of common goals other than spending some time together and pretending that everyone gets on as well as they did 60 years ago. Unfortunately, « old age is a shipwreck » as Charles De Gaulle used to say.

(10) The idea is unrealistic. Indeed, SDR were killed by the US around 40 years ago. To have any chance of success, a brand new currency must be created (especially as, called« Special Drawing Rights », it would be very unlikely to enhance its reputation outside the strict circle of monetary experts).

(11) For which they will hold the US responsible: extravagant deficits, incapacity to stimulate economy… the reasons will be many at the end of summer 2009.

(12) On this subject, our team emphasizes that, contrary to the suggestions contained in Chinese leaders’ recent enthusiastic speeches suggest, China’s economic situation will not significantly improve this year. Between collapsing exports, an exploding housing bubble and soaring unemployment, Chinese GDP will remain stable in 2009 (or increase 2 to 3 percent maximum). This situation will strengthen Beijing’s intention to turn its back on all the strategies which led it into this situation for which the scapegoat is obvious. Sources: Financial Times, 04/13/2009; Chinaview, 04/02/2009; New York Times, 04/02/2009; ChinaDaily, 03/19/2009

(13) For instance, the AAA rating of the United States is a complete farce, as this article published in SeekingAlpha on 30/03/2009 explains. The whole country, companies, households, public services, are acquiring junk-bond status… but the federal government is still rated AAA! Rating agencies (all of whom are American) have well deserved the USD 400 billion they were paid by the federal government to help them in assessing the value of USD 1,000 billion worth of toxic assets that it is about to purchase from the banks. Assets which, of course, were rated AAA two years ago by the same agencies. But Beijing, as well as the rest of the world, has now fully understood the fraud. Source: BusinessInsider, 04/07/2009

(14) Source: MarketWatch, 04/12/2009

(15) Source: ChinaDaily, 04/12/2009

(16) Source: ChinaDaily, 04/11/2009

(17) As Brad Setser indicates, in 2008, China absorbed nearly half the foreign purchases of US Treasuries.

Lundi 27 Juillet 2009
Marie-Helene Caillol
Lu 41279 fois

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